Study: Indian Luxury Car Market

The second half of the 2000’s witnessed exponential growth in the Indian luxury car market, due to the arrival of several global luxury car brands in India.

Encouraged by the early growth story, global luxury car makers introduced their entire global product portfolio for wealthy Indians in the following decade to expand the market further.

However, the luxury car market has been growing at a declining rate since 2011.

Thus, the luxury car market has lost track with respect to the overall passenger vehicle market growth path. The impact of the COVID-19 pandemic was much harsher on the luxury car market than on the mass market, as the former's share dipped to 0.8%.

At times, higher taxes in India were believed to be a major impediment to the Indian luxury car market's growth. Here we present our study, where we discovered that there are many other factors contributing to the slowdown in the luxury car market's growth rate.

China as a case study in wealth growth

Luxury is all about indulgence and exclusivity. The key driver of luxury goods and services is the generation and distribution of wealth in the economy.

China and India have similar population sizes, and that makes China’s progress in luxury car sales the aptest benchmark for this study. To understand economic relations and for an apples-to-apples comparison, a more suitable economic indicator is considered over here – US dollar GDP per capita.

Till the late 80s, India’s and China’s economic progress were in close ballpark.
Since the early 90s, the Chinese economy has grown at an exponential rate due to rapid economic reform and transformation.

As a result, the Chinese luxury car market grew at a phenomenal rate. The penetration level of the luxury car market is also quite high in China, indicating widespread prosperity. For now, the Chinese economy is reaching a saturation level and struggling to find a new growth engine, but this is bound to happen.

Conclusion: Indian GDP per capita growth has a very long way to go, and so does the size of the Indian luxury car market. Local annual assembly capacity is close to 60,000 units, of which 66% was utilized at its peak in 2018. Such overexpansion may lead to higher fixed costs and some investment write-offs that may adversely impact long-term P&L. Luxury car makers and their component suppliers need to carefully plan their expansion in India, in line with the future GDP growth path.

Wealth distribution study: China reference

The Forbes top 100 richest lists of India and China give a good insight into the wealth distribution among the super-rich in similarly populated countries.

2021: Top 20 from Forbes 100 richest List

  • The wealth of the top 100 richest Indians is around 24% of the GDP size, compared to 8% in China. That shows how wealth is being accumulated in the hands of a few in India.

  • Wealth distribution is also skewed among the richest Indians, as the top 10 richest Indians have 43% of the wealth in the top 100 list.

  • In China, wealth is more uniformly distributed, so no Chinese national features in the global top 10 richest list, whereas Indians do.

  • Most Chinese billionaires are relatively young and self-made, and their wealth is derived from new-age businesses.

  • In contrast, the wealth owned by the richest Indians belongs to older individuals and their families, mostly engaged in traditional business.

Conclusion: Wealth accumulation in the hands of a few is very high in India. Over a period of time, the rich are becoming richer, and not many others entered the rich club rapidly. Unlike China, where wealth is more uniformly distributed, leading to higher consumption of luxury cars.

Foreign exchange rates and car prices

In the last two decades, the INR has depreciated against major trading currencies like the Euro and US dollar by 82% and 56%, respectively.

All luxury cars in India come either through the CKD (completely-knocked-down) or the CBU (completely-built-unit) import route, and are vulnerable to adverse movement of the foreign billing currency.

To gain a better understanding, prices of products launched in 2007 have been deconstructed by removing applicable taxes and dealer margin, the residual amount is the revenue earned by carmakers.

Further price movement is simulated based on the fluctuation of the foreign exchange rate, keeping revenue realization in the home country's currency constant.

Conclusion: Since the euro appreciated against the INR by 31% in that period, luxury cars have become more expensive on the price front, and without commensurate value enhancement. It becomes apparent in the comparison of 2008-generation cars with the 2022-generation car price level.

Tax, by nature, is a compulsory contribution. It is one of the major sources of revenue for the government. At the same time, the government can use the tax system to alter the market forces of demand and supply. As in the case of small cars in India, which are taxed at a lower rate. Lower taxes will reduce prices and spur demand. Also, it can be used as a tool for the redistribution of wealth and for fostering economic equality, hence the idea of higher taxes on luxury goods and services.

Luxury cars in India attract two types of tax, and both are included in the ex-showroom price of the car. Tertiary taxes like road tax and registration fees are levied on top of the ex-showroom price, and they vary from state to state.

Primary tax: Custom Duty

The first level of taxation that CKD/CBU luxury cars face is the customs duty, also known in economics as a "tariff barrier". The purpose of the tariff barrier is to discourage imports and, in turn, it results in local production, which leads to local asset creation and employment generation.

Custom duty in India varies from 15% to 100% depending on the production system adopted by the manufacturer. CKD cars are assembled in India with local labor and with some locally sourced parts, such as tires, glasses, alloy wheels, seats, batteries, etc. In many cases, engines and axles are also assembled in India. However, the gearbox always comes in the pre-assembled form. As shown in the table, the custom duty rate is either 15% or 30% for CKD operations.

In around 2007, the government of India reduced the lowest slab of CKD duty to 10%.

However, since 2017, CKD customs duty has been increased to 15%. Luxury car makers in India had no other choice than to pass it on to end customers, thus making cars a little expensive thereafter, based on imported content.

Conclusion: Custom duty incidence can be reduced by a higher level of localization or local sourcing, which needs effort on the supply chain and quality side.

Secondary tax: Excise+VAT (before July 2017) or GST (after July 2017)

Before 2017, a dual-secondary tax was imposed on vehicles. On production, excise duty was levied by the central government, and VAT was levied by individual state governments on sales of vehicles.

Over the years, excise duty has come down to 24% from a peak of 40%. In 2006, as a policy decision, the central government further reduced excise duty rates to 12% on sub-4m vehicles with petrol engine sizes of less than 1200cc and diesel engine sizes of less than 1500cc, to promote small and fuel-efficient cars in India.

Since 2017, all forms of secondary tax on all the vehicles sold in India have been subsumed in the form of a single applicable tax called GST. When GST was implemented across the country, the GST council kept the highest tax slab at 43%, which was 3% to 7% lower than in the pre-GST era. This has helped in short-term demand growth as manufacturers have passed on reduced tax benefits to buyers, and sales increased during that period. However, the GST council quickly realized the revenue leakage and fixed it within 2 months, and the tax rate came back to its pre-GST level.

The lower tax rate certainly helps demand to grow, and this can be explained by the economic theory of the Laffer curve.

It is important to note that, irrespective of the car price, the excise, VAT, and GST rates remain the same for mass-market and luxury vehicles, as tax slabs are based on length, fuel type, and engine size criteria.

For example, in 2018, the industry’s best revenue-earning mass-market product - Hyundai Creta’s 1.6L petrol E variant priced at ₹ 9.3 lakh (ex-showroom) - was taxed at a 50% GST rate. However, some of the most expensive luxury sedans, like the Mercedes Benz S-Class, BMW 7-Series, and Audi A8 - were priced in the range of ₹ 1.14 crore to ₹1.77 crore (ex-showroom) - were taxed at a 48% GST rate. That means the Indian secondary tax system on vehicles is not progressive in nature.

Conclusion: During the period of high growth from 2007 to 2011, and since then, the secondary tax rate has remained stable having no direct impact on luxury car prices and the slowing of growth. However, the excise rate was temporarily reduced to cushion the aftermath of external economic shocks.

It is the adverse movement of the forex rate that needs to be countered to regain growth momentum.

Future Forward:

China like exponential growth in the Indian luxury car market will take a long time. Another way for luxury carmakers to incrementally expand the Indian market is to go for selective localization or local sourcing without compromising on quality. This will reduce costs and de-couple prices from adverse forex risk to a certain extent. Lower prices will result in higher consumption due to the price elasticity of demand. However, the industry has to do the heavy lifting with a high-risk investment in localization efforts.